Views split on ECB as lender of last resort - Reuters poll

By IBT Staff Reporter On 12/20/11 AT 2:00 PM

Economists and bond strategists are still split on whether the European Central Bank will become the euro zone's lender of last resort, but the bank is not likely to start printing money anytime soon, a Reuters poll showed on Tuesday.

The inconclusive result reflects Europe's political impasse on the subject, with France and Ireland in favour of the ECB acting as lender of last resort, and Germany and the bank itself staunchly opposed.

In any case, several respondents said the ECB will inevitably become more involved in quelling a sovereign debt crisis that is choking off affordable funding for Italy and Spain - whether lender of last resort or not.

The ECB may pursue its present policy of insuring the system against an accident without saying it loud for a while, said Jean-Louis Mourier, economist at Aurel BGC.

But it will have to clarify its policy soon as increasing tensions put the euro itself in danger. The ECB may have to say loud it will save the euro during the first quarter of 2012.

Of the eight economists who thought the ECB would become lender of last resort, most thought it would happen in the first half of 2012.

In case of high market turbulence, the ECB may increase its bond purchases for particular countries in order to help keep interest rates at acceptable levels, said Thilo Heidrich, economist at Deutsche Postbank. Thus, the ECB would basically act as a lender of last resort.

A larger poll of economists conducted last month showed most - 16 of 25 - thought the ECB would become lender of last resort. That survey came out before an ECB rate meeting in which President Mario Draghi took a hardline stance against extreme unconventional policy measures.

Still, the ECB will offer its first ever limit-free, ultra-cheap 3-year loan to banks on Wednesday, with demand likely to go a long way to determining whether debt crisis states will receive some release or endure more pain.

QE OUT OF THE QUESTION?

The central bank looks much more unlikely to engage in quantitative easing (QE), purchasing government bonds from banks with freshly created money. QE has the dual purpose of keeping borrowing costs low and increasing liquidity in the banking system.

Only five out of 16 analysts saw the ECB starting QE, as practised by the U.S. Federal Reserve, Bank of Japan and Bank of England.

The ECB is prohibited from debt monetisation, said Peter Chatwell, interest rate strategist at Credit Agricole-CIB.

But they are expanding the monetary base via their liquidity tenders and, to me, this is QE. I would argue that the operations of the Fed and BoE, BoJ ... is QE plus government debt monetisation.

Chatwell said the closest the ECB could get to fully fledged QE would be through its long-term liquidity tenders, while giving banks an incentive to purchase sovereign debt, perhaps through allowing all of the purchased debt a smaller risk weighting than normal.

The wider monthly survey of 46 analysts showed major government bond yields would remain at historically low levels, reflecting the dire growth prospects in most developed economies.

Still, there was hope that some of the swollen bond spreads seen in the euro zone would narrow, presumably as the sovereign debt crisis recedes.

French 10-year government bond spreads over the German Bund will fall sharply, the poll showed, from around 120 basis points right now, to below 100 by this time next year.

The equivalent Italian spread, which last month widened to a euro-era high of 550 basis points over the Bund, could narrow around 140 basis points by this time next year, the poll showed.